Ask the Institute

QUESTION: Can you explain the terms historical volatility and implied volatility?

ANSWER:Historical volatility describes stock price changes over a specific time period in the past. The result of the historical volatility calculation depends on the length of the time period chosen and on the size of the average daily change. Since past performance is not a guarantee of future performance, there is no assurance that any stock will change day-to- day in the future as it has in the past.

Now, implied volatility is completely different than historical volatility. The calculation of implied volatility uses market prices of options, which are determined by the forces of supply and demand. As a result, implied volatility is a forward-looking estimate of how much a stock price might change from day-to-day in the future. To learn more about historical and implied volatility, view this week's segment of "Ask the Institute."